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Oct 4, 2017, 09:00am

Using Employment Plans To Prevent Succession Setbacks In A Family Business

Scott Friedman, the Founder/Senior Advisor at NextGen Advisors LLC, advises family businesses and organizations across the United States.

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From experience over the years in working with — and continuing to learn about — family businesses, it seems to us that succession planning has been popularized as a concept to such an extent that it risks being misunderstood as synonymous with family business planning. Oft-cited statistics suggest, however, that traditional succession planning efforts are insufficient for the challenging tasks at hand as most families fail to successfully transition ownership and control to second-generation members.

It's our belief that a significant percentage of family business failures are a byproduct of families and their advisers having given comparatively much less attention to the antecedent imperative to succession planning, to wit, employment planning. Without thoughtful employment planning, families increase the risk of succession planning failures for a variety of reasons, including the possibility that potentially qualified successors a) won’t be attracted to work in the family business; b) get frustrated and leave for a variety of reasons, such as not being appropriately rewarded for their efforts and contributions, concerns that succession guidelines are sufficiently clear to provide confidence that a “plan” has been established that is likely to be followed, etc.; or c) won’t be trusted by family members, non-family employees and stakeholders who might not understand the rationale for their advancement and eventual succession.

To reduce the risk of these and other related challenges, families in business together should develop an employment plan. While every such plan must be customized to fit a family’s unique constituency and circumstances, we have found that most thoughtful plans share the following components:

1. Eligibility criteria: Families are well served by establishing — and adhering to — clear criteria that must be met or exceeded for members to be eligible to work in their business. Such criteria traditionally include a certain level of formal education and a requirement to gain experience by working outside the family business for a period of time. Without disputing the reasonableness of such criteria, we have found that the most successful families don’t simply require family members to be “capable” of performing the jobs for which they are assigned. Instead, their standard is whether family members are at least as qualified as the best non-family members who might otherwise be available for a particular position.

2. A compensation methodology: A methodology for how family members who go to work, and remain employed, in the business will be rationally compensated is key. Recognizing the benefits of customizing this methodology, good compensation plans tend to set a family employee’s compensation on the basis of fair market value (what would the family pay a non-family member?) and seek to align compensation with both individual and organizational goals as well as the organization’s and family’s values and culture.

3. Performance evaluation: While thoughtfully setting compensation is important, no less important is adjusting compensation based on relevant criteria. While a company’s overall performance and market conditions need, of course, to be considered, perhaps the most important criteria are based on fairly evaluating an individual’s job performance. Beyond guiding compensation adjustments, providing constructive feedback can be invaluable in helping employees mature and improve. It can also be used to inform and explain promotion decisions and, if appropriate, termination decisions as well. Finally, tracking performance evaluations over time can be particularly helpful when considering whether an individual is ready to be considered a successor.

Without rationally constructed employment plans, families in business together increase their risk of destructive conflict for a variety of reasons. For example, family members tend to resist successors whom they believe to be unqualified and overcompensated; incumbent leaders, particularly founders, might feel that no one is demonstrably capable of succeeding him or her; or founders might feel that a junior generation family member is qualified to take over the business simply by virtue of being from the same gene pool.

Developing an employment plan can help resolve these and related challenges by ensuring that employment-related decisions are driven by data and other compelling evidence. Such decisions, in turn, are more likely to be received and understood by family members and non-family stakeholders as smart, principled and, most important, in the shareholders’ (and company’s) best interests. For these reasons, developing a rational employment plan should be high on a family’s priorities as it should help improve intra-family relationships and organizational success and, along the way, position the family for a workable succession plan.